September 17, 2012 / 8:38 AM / 5 years ago

EURO GOVT-Bunds pause; sell-off seen overdone on Spain doubts

* Bunds pause, hold in range; sell-off seen overdone

* Doubts over Spanish aid request weighs on bonds

* Yields may rise further ahead of Thursday's auction

By Kirsten Donovan

LONDON, Sept 17 (Reuters) - German government bonds paused on Monday with the previous session's sharp sell-off seen as having gone too far given the lingering doubts over when, or if, Spain will seek financial aid.

German yields hovered around 11-week highs, having risen sharply on Friday after the U.S. Federal Reserve said it would pump $40 billion into the U.S. economy each month until it saw a sustained upturn in the jobs market.

The Fed's pledge weighed on safe-haven assets -- including U.S. Treasuries -- and lifted peripheral euro zone debt. But with questions over whether Spain will ask for a bailout that could trigger European Central Bank intervention, analysts said some reversal of the recent moves was possible.

"A lot of good news is priced in and now the market is pondering whether or when Spain might require a bailout," said Rabobank rate strategist Richard McGuire.

"The realisation is dawning it might not be rushing."

Riskier assets such as equities have rallied at the expense of safe-haven government bonds since the ECB said in late July it would do whatever it takes to preserve the euro, detailing a bond-buying plan earlier this month.

But Spain must ask for aid before the ECB will step in, something a German official said last week was not inevitable.

When, or if, the country will do that is not clear although the pledge of a reform timetable, which sparked weekend protests in Madrid, is seen by some as paving the way for such a request.

"The market has priced in an actual bailout and the longer Spain prevaricates, the greater the risk the market will strong-arm them into accepting a support package," McGuire said.

Two-year Spanish bond yields were 10 basis points higher at 3.35 percent, with the Italian equivalent up a similar amount. Ten-year yields also rose.

Spanish bonds may come under more pressure before debt auctions on Thursday seen as a gauge of investor confidence in policymakers' efforts to stem the debt crisis, although analysts said the recent fall in its borrowing costs offered Spain a window to issue longer-maturity paper.

Spain will launch a new three-year bond on Thursday and tap an outstanding 10-year issue. It will announce the amount it plans to raise later on Monday.

German Bund futures were 11 ticks higher at 138.85, with 10-year yields down almost a basis point at 1.66 percent.

"Bunds collapsed on Friday, it was very heavy but I think we might need to pause," a trader said. The markets are very optimistic at the moment."

Ten-year Bund yields tested June's 1.69 percent high -- the top of the range of the last five months -- before retreating on Monday.

"There is potential for more upside yield moves but we do not think levels lurch much higher and we ultimately see a move back to the range," RBS rate strategists said in a note.

They added that for money to flow out of Bunds and back to the periphery would require "evidence the ECB has cracked the puzzle to bring lasting low yield equilibrium to the periphery", something the bank does not see as likely.

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